How (Not) to Measure Competition

J. Boone, J.C. van Ours, H.P. van der Wiel

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Abstract

We introduce a new measure of competition: the elasticity of a firm’s profits with respect to its cost level. A higher value of this profit elasticity (PE) signals more intense competi- tion. Using firm-level data we compare PE with the most popular competition measures such as the price cost margin (PCM). We show that PE and PCM are highly correlated on average. However, PCM tends to misrepresent the development of competition over time in markets with few firms and high concentration, i.e. in markets with high policy relevance. So, just when it is needed the most PCM fails whereas PE does not. From this we conclude that PE is a more reliable measure of competition.
Original languageEnglish
Place of PublicationTilburg
PublisherTILEC
Number of pages49
Volume2007-014
Publication statusPublished - 2007

Publication series

NameTILEC Discussion Paper
Volume2007-014

Keywords

  • competition
  • profit elasticity
  • measures of competition
  • concentration
  • price cost margin
  • profits

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